In this report, we comment on economic and financial developments in Ukraine after Putin's invasion and offer some initial thoughts on what it means for the bonds, although we refrain from making specific investment recommendations at this stage out of respect and due to the huge degree of uncertainty. First and foremost, our thoughts and prayers are with the people of Ukraine.
The IMF yesterday approved, as expected, a US$1.4bn (50% of quota) disbursement to Ukraine under its rapid financing instrument (RFI) following the authorities' recent request for emergency financing "to help meet urgent financing needs and mitigate the economic impact of the war". The IMF also announced, unsurprisingly in our minds (given the desperate situation, which makes conditionality irrelevant), that the stand-by arrangement (SBA) has been cancelled, although strong engagement will continue.
It comes after the IMF and World Bank’s joint statement on 1 March saying that they were working urgently to increase financial assistance to Ukraine and follows approval of a World Bank-led US$723mn package of assistance announced earlier this week. This included contributions from Denmark, Iceland, Japan, Latvia, Lithuania, Netherlands, Sweden and the UK.
The EBRD also announced yesterday EUR2bn in funding in a resilience package to support Ukrainian companies.
It, therefore, brings total financial support for Ukraine from the international financial community announced this week to US$4.3bn. Other governments, donors and IFIs, including the EU, have also provided additional emergency assistance.
Ukraine has also mobilised private finance through the issuance of war bonds. Ukraine sold UAH8.1bn (US$277mn) in its inaugural war bond on 1 March, to help raise funding for the armed forces, and a second sale, of UAH6.7bn (US$229mn), took place this week. While the appropriateness of such instruments may be debated, it has helped mobilise funding more quickly than some of the official financing and added to the sense of patriotism.
But much more will be needed, both now – amid the unfolding humanitarian and economic crisis, to mitigate its impact, with the tragic loss of life and human suffering, displacement of people, and destruction of the country's infrastructure and productive capacity – and later, when conditions allow, to rebuild the country. Ukraine was a cUS$200bn economy pre-invasion.
The World Bank says it is preparing a US$3bn package of support for Ukraine in the coming months. With its programme cancelled, the IMF will no doubt also look at how else it may be able to help through its concessional lending facilities and those with less strict conditionality, although within its lending rules, it is not clear how much more it can do (other than additional RFI money). Some US$2.2bn remained under the programme, and the second review of the extended arrangement (with cUS$700mn available) was due now.
More generally, Ukraine’s government said last week that international aid will exceed an estimated US$15bn (8% of pre-invasion GDP) after Putin’s invasion, while the Biden administration was reported to be seeking an additional US$10bn in aid alone (reports yesterday say this has been upsized by Congress to US$13.6bn). Ukraine will also seek reparations and compensation from Russia when this is over.
But the economic consequences are already serious, and the outlook highly uncertain, and the IMF notes that financing needs are "large, urgent, and could rise significantly as the war continues". A deep recession is expected this year, with the National Bank of Ukraine (NBU) saying last week that the economy is operating at 50%. To put this in some kind of context, recall that the cumulative decline in real GDP after the 2013 crisis was over 15% over two years.
Meanwhile, the government has stated its intention to continue servicing its debt, and as the IMF notes, Ukraine has "stayed current on all debt obligations". This is despite the devastation caused by the war. Ukraine paid US$293mn in coupons on a number of its foreign bonds (the series created in the 2015 exchange) on 1 March. This was just a week after the invasion. Another US$94mn is due on 15 March (on the '33s) and US$111mn on 25 March (on the '32s). The authorities then have a bit of space (until 1 May) to consider whether they can and are able to continue paying the bonds, which will in part depend on the length of the conflict and its consequences. Ukraine has a sovereign foreign bond stock of cUS$20bn (equivalent).
However, remaining current on the bonds, in the face of such overwhelming difficulties, may not be tenable, or even desirable. Interest on the foreign bonds for the remainder of the year amounts to US$707mn and there is also a US$912mn principal payment in September on the '22s. There may be more pressing needs for those resources as the war continues.
The government might therefore need to declare a moratorium; for which, bondholders would surely be sympathetic. Alternatively, consideration could be given to a temporary suspension of debt service (which is essentially what we saw, ex post, in Cote d’Ivoire after its 2010 political crisis). This echoes the G20’s debt service suspension initiative (DSSI) – a DSSI for Ukraine – but there will be issues around the detail. Others will call for debt relief.
Indeed, the market is pricing in a Ukraine default, with almost near certainty (although prices are volatile). With the September 2022s indicated at cUS$45 (mid-price basis as of cob 9 March on Bloomberg), albeit up 9pts on the day and 6-7pts on the rest of the curve, on hopes for the meeting between the two foreign ministers of Russia and Ukraine in Turkey and other hints on some compromises, the implied probability of default is c90% under standard recovery assumptions.
Such concerns are echoed in Ukraine's sovereign ratings. Moody’s downgraded its rating from B3 to Caa2 on 4 March and Fitch downgraded its rating from B to CCC on 25 February. S&P also downgraded its rating on 25 February but only to B- from B.
However, it is harder to establish what this all means for Ukraine bonds, unlike in Russia, where we think default is inevitable and recovery prospects look bleak. This depends on the outcome of the war. If, as we all hope, a free, independent and democratic Ukraine prevails, prospects will be brighter and friendly and cooperative bondholders will be part of the solution. But it is not clear how long this will take or what the situation will look like at the time.
However, there are darker scenarios, for example, where Russia takes over Ukraine, or Ukraine is divided up and partitioned, which will raise questions over who the obligor is, what debt is recognised, and willingness and ability to pay.
